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FRM Part II · FRM Exam Part II · Governance

During a benign credit cycle, a bank's loan officers are under pressure to meet growth targets and begin approving loans with weaker debt-service coverage than the policy minimum, recording them as policy exceptions. Which governance response is most appropriate?

The bank should monitor policy exceptions independently, cap their volume, and report them to senior management and the board. Rising exceptions signal loosening underwriting standards, so transparency and independent oversight are needed, whereas unlimited or self-approved exceptions weaken the control framework.

  1. AAllow exceptions without limit because the economic outlook is favorable
  2. BMonitor exceptions independently, set limits on their volume, and report them to senior management and the boardCorrect
  3. CRaise the policy minimum and stop reporting exceptions to avoid clutter
  4. DLet the originating officers approve their own exceptions to speed up processing

Explanation

Exceptions to underwriting standards should be tracked by an independent function, capped, and reported upward, since rising exceptions signal loosening standards. Unlimited or self-approved exceptions undermine controls, and stopping reporting reduces transparency.

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